Last week, California State Treasurer John Chiang, who sits on the CalPERS board, spoke to the Culver City Democrats’ Club. Chiang is running for Governor. The session was recorded and I am told the video will be posted.
During the Q&A section, someone who reads Naked Capitalism asked about CalPERS’ plans to outsource its private equity program (for details, see our recent post: CalPERS Launches Illegal, Corrupt, Unjustified and Beneficiary-Damaging Private Equity “Strategic Partner” Search Obviously Designed to Favor BlackRock):
How can CALPERS justify handing over as much as $26 billion to a costly private equity middleman and hand the business to one firm – BlackRock? Why is it being done in the first place? Other big public pension funds are going in the opposite direction – of doing more in house to reduce fees, not increase them.
There are a few that are going in-house… My office looked at it. We put together, I wouldn’t call it quite a white paper but as we started a few years ago some of us were very interested in a Canadian model where in the Canadian model, the private equity model, did very well except once we looked at where they were making money, they were making money on oil companies in Canada.
Part of our challenge is, we’ve been trying to figure out how do we replicate a private equity performance and expertise and bring it in-house. And there is interest but to cover all the territory that the private equity companies [unintelligible few words] would be quite expensive. But we are looking into that, trying to reduce the fees and bring those services [unitelligible few words]
We got in contact with the person who grilled Chiang, who was willing to provide more detail via e-mail:
I said, off mike, at the end, “I’m not the only one who reads Naked Capitalism.” In other words, your garbage answer is not going to get you that far in circles more sophisticated than the Culver City Dem Club.
At the very end, I went over to him again when people were just chatting him up. I said, this is going to be a problem for you. Your competitors obviously know this and I suspect it will come up at some point. He said, well, Newsom hasn’t said anything about it. I said: oh, come on – this could come out a month before the primary. You need to get it together. You need to fix this and get a better story or this is going to be really bad for you. Yves is not going to stop writing about this. He said: well, she’s just wrong… I just said, Oh, please. Good luck. And left. Also, somewhere in there I said, you watered down that assembly bill [on private equity transparency]. And he whined, I had no support.
Notice what is going on here. Chiang could have chosen to duck this line of questioning truthfully by saying something like, “We are just getting more information about options, no decision has been made.” He is instead aggressively defending what is going on even as highly regarded, mainstream publications like Private Equity International have raised eyebrows about CalPERS’ rushed and inexplicably narrow solicitation process. 1
Even worse, the defense is flat out false. Chiang flatly misrepresented what is happening. CalPERS is not planning to bring more private equity in house or taking steps to reduce fees.
The Request for Information that we posted last week is crystal clear on what is being set in motion: CalPERS is looking to give investment discretion, as in control over the money, to an external manager who will then pick private equity funds and/or co-investing. The proposal also amusingly makes clear that the hired gun is to go to lengths to present the sham that this is a CalPERS program, as opposed to “XYZ Fund Manager Scheme”. Specifically:
It is important to note that with this strategic partnership initiative (Strategic Partnership or Partner) CalPERS does not intend to create a standard “Fund of Fund” relationship or consider this to be an outsourcing of responsibility. Instead, CalPERS desires to create a collaborative partnership where the Partner has investment discretion, but works with CalPERS PE Staff in the development of an annual allocation plan that CalPERS will approve. The Partner is expected to act as an extension of CalPERS Staff and continuously dialogue with CalPERS PE Staff on the management of the Portfolio. CalPERS is open to any legal structure that will help it achieve these goals.
If Chiang really does not understand what a sham this is, he doesn’t deserve to be Treasurer, much the less Governor. All that counts in that paragraph is that the partner will have investment discretion. The fact that it has to talk to CalPERS a bit more than in the typical fund of fund arrangement is optics.
This bears no resemblance to the so-called “Canadian model” in which seven Canadian pension funds have been doing more private equity in house. The only way that can be construed to be happening, as one wag said, is CalPERS would be getting a Canadian, in the form of its head of private equity, Mark Wiseman, if CalPERS were to go with BlackRock, which certainly appears to be the plan.
And as we’ve also written, the idea that this will lower fees is false. It will increase them, on the order of at least $50 million per year of base fees if CalPERS were to outsource its entire portfolio. And that’s before you get to the fact that an outside manager will typically take 10% of the profits, which will cut further into CalPERS’ returns.
But observe further: Chiang is not only abjectly misrepresenting what is going on, he is also presenting himself as being the moving force behind it. Now why might that be?
Chiang is taking a pro-private equity position (have CalPERS pay more fees) amid his gubernatorial bid. Private equity in general is one of the biggest, if not the biggest, donor group. And even though fund managers are supposedly prohibited from giving money to the campaigns of public pension funds trustees, there are well-established ways of circumventing the rules: have the donation made by the an in-law or wife of a financial firm executive (even better under her maiden name) or the executives of a private equity portfolio company. These routes are so well known that in major US cities, the big consultants can look through donor lists and identify how they are connected to the almost certain actual source of the funds.
The potential upside to Chiang’s fundraising would also explain another feature of this “partner” search that we’ve found difficult to explain: that false urgency. When CalPERS first presented this idea to the board, it made it sound as if it was proceeding in a very deliberate manner, with the next step being that the board would be briefed on possible legal structures in six months. The sudden change to a rushed process that looks designed to favor one party is consistent with needing to show sufficient progress before election time.
Californians who view Chiang as a bona fide progressive may take umbrage at this line of inquiry. However, if you care about a candidate’s policy positions, the most reliable guide is his past actions. Chiang supporters need to look hard at what he has done at CalPERS. Just because you don’t like Gavin Newsome does not mean that Chiang should get a free pass.
1From its January 11 article, Decoding the CalPERS request for information :
. But right before the industry disappeared for the holidays, CalPERS sent out a request for information for a private equity strategic partner, plus a questionnaire for potential partners to fill out.
Here are the highlights.
– It’s not open to everyone
In the document, CalPERS wrote “the process is very targeted, and will only be open to those that CalPERS invites to participate in the process”. It is unclear which firms have been invited to participate.
CalPERS declined to comment further, citing the solicitation’s active status.
– There isn’t much time
The solicitation opened on 21 December 2017 and will close at 5pm PST on 19 January.
The fact that CalPERS launched such a major process over the Christmas and New Year period has not escaped criticism, and the critics have a point. The questionnaire asks for detailed information on, among many other things, the firm’s approach to the due diligence process, deal pipeline, negotiating and monitoring across all relevant investment strategies, a detailed compensation structure and a “proposed dollar amount of firm capital which would be invested alongside CalPERS”. Not information that can be pulled together at the last minute.